Tuesday, February 17, 2009

IntercontinentalExchange, the operator of futures exchanges and over-the-counter trading platforms, plans to set up a European clearer for credit default swaps in an effort to establish the first transatlantic clearing mechanism for such products.

The move is aimed at offering the industry a simple solution for clearing of CDSs on both sides of the Atlantic at a time of increasing confusion over European efforts to establish a Europe-based clearing mechanism to complement one already planned for the US.

US authorities have already persuaded exchanges and the industry to come up with a central counterparty clearer (CCP) for the $28,000bn CDS market, with ICE one of four groups vying to become the preferred industry solution.

But matters have been complicated by the insistence by the European Commission and European Central Bank that there also be a CCP in Europe.

The development is opposed by many industry participants, including the Futures and Options Association, which says having two clearers would be costly and cumbersome – especially if each were owned and operated by different exchange-led groups.

Participants are also alarmed about calls from some quarters for the creation of a “eurozone” clearer, when others appear to be calling for a wider “European” solution.

The FOA has written to the UK Treasury alerting it to a danger of “triggering a move to a create two European financial markets – an inner eurozone market and an outer, marginalised non-eurozone market”, according to one FOA source.

ICE is already well-advanced with plans to launch CDS clearing in the US, and recently received approval for a New York-state regulated banking entity, ICE Trust, to carry it out.

So far two clearing providers have said they are working on a European CCP: Eurex Clearing, a unit of Deutsche Börse and and LCH.Clearnet.

ICE’s plans for Europe would use its existing London-based clearer, ICE Clear Europe. The exchange group is in talks with the Financial Services Authority, the UK regulator, about expanding ICE Clear’s remit to CDSs.

The exchange operator believes that offering an integrated transatlantic CDS clearing solution would neutralise many of the concerns that dealer banks have, since such an arrangement would offer cross-netting and other market efficiencies.

Sunil Hirani, chief executive of Creditex, a unit of ICE which offers trading of CDS contracts, told the Financial Times: ”We have been working extensively with the credit derivatives market and much of the work that we’ve done to create our US solution is already being leveraged with our plans in Europe.

“Our plan is to utilise ICE Clear Europe, which is already FSA approved to clear ICE’s energy OTC and futures contracts, to also clear CDS. We are working with the FSA as well as other UK and European regulators on this effort,” Mr Hirani said.

Meanwhile, user-banks who met in Frankfurt on Friday to discuss their requirements for a CCP with the European Central Bank say that the talks went smoothly and that consensus quickly emerged.

One item they are seeking is connectivity between the CCP and a central bank, which could be valuable in the event of a liquidity squeeze. In effect, this would probably mean either the UK’s Bank of England (in the event of a City-based CCP) or the ECB within the eurozone.

A much larger meeting, involving regulators, banks, central bankers and fund managers, is scheduled for February 24 at which the European banks, ISDA and fund management representatives are all expected to present their separate wish-lists.

Among those present will be Pervenche Beres, chair of the European parliament’s economic and monetary affairs committee. Ms Beres, a socialist MEP, has tabled some last-minute amendments to an existing legislative initiative which could force banks that do not clear CDS in Europe to set aside extra capital.

Her proposals could come to parliamentary vote in April. But banks are hopeful that, if talks on an industry-led solution are going well, some of her more punitive amendments might be dropped. That, however, does not appear to enthuse European regulators; having finally galvanised the industry into action over CDS clearing, they may be far more reluctant to see the legislative stick thrown away.

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Market Pipeline Mission

Aggregation of news stories and blog entries that are pertinent to the the financial stability landscape. Areas covered include risk management, structured finance, including developments in credit default swap markets.